Computational methods for incentive option valuation |
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Authors: | Markku Kallio Antti Pirjetä |
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Institution: | (1) Helsinki School of Economics, Helsinki, Finland |
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Abstract: | Employing stochastic programming, we provide a general framework for option pricing based on marginal bid/ask price valuation.
It is applied to numerical analysis of options with European and American style exercise using a double binary tree. Incentive
options are valued considering hedging restrictions and other market frictions, such as transaction and short position costs,
and different borrowing and lending rates. The framework also includes correlated labor income. The possibility of partial
sales is analyzed using ask price functions. Without friction costs and labor income, our model is the discrete-time equivalent
of Ingersoll (J Bus 79:453–487, 2006). When labor income and/or market frictions are present, or a fraction of options is
sold, the option values are materially different compared to Ingersoll (J Bus 79:453–487, 2006).
Electronic supplementary material The online version of this article (doi:) contains supplementary material, which is available to authorized users.
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Keywords: | Portfolio choice Investment decisions Contingent claim pricing Optimisation techniques |
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